The cut in the discount rate by the Federal Reserve Board on Friday is expected to ensure that the interest rates charged on home mortgages and consumer loans, which had already been dropping, should continue to decline, at least slightly.
Mortgage bankers said later in the day that home mortgage rates, which have dropped below 1978 levels in recent weeks, are the most likely to fall even more. The rates charged for popular consumer loans, such as automobile loans and home improvement loans, should also slide a bit within the next few months.
"Given the lower . . . (discount) rate, I'm sure bankers are taking another look at those (consumer) rates," said Kathleen Cooper, an economist with Security Pacific National Bank in Los Angeles.
The Federal Reserve Board dropped the discount rate--the interest rate that banks must pay to borrow from the Federal Reserve Bank--to 7% from 7.5%. The cut puts pressure on short-term interest rates and also reduces a bank's cost of doing business, a decrease that is expected to trickle through to bank customers.
On Friday, Home Savings of America, the nation's second-largest savings and loan, lowered its rate on an adjustable rate mortgage to 8.75% from 9.25%, the lowest rate offered by the institution since 1976. Spokeswoman Gail Morris said Home Savings cut the rate as a result of lower interest rates and competition.
Auto Loan Rate Cut
Home Federal Savings in San Diego, in anticipation of Friday's action by the Fed, dropped its automobile loan rate this week to 12.25% from 12.95% and dropped its 30-year fixed mortgage rate to 9.75.% from 9.875%. "We're just reacting to the market," said spokeswoman Monica Wiley, who added that, after the mortgage rate cut was announced, Home Federal was besieged by a record number of applications from persons seeking to refinance their mortgages at the lower rates.
Some other lending institutions also dropped auto loan rates this week: First Interstate Bank to 12.75% from 13.25%; Wells Fargo to 11.75% from 12%; Imperial Savings & Loan to 12.375% from 12.875%.
Lyle Gramley, chief economist with the Mortgage Bankers Assn. in Washington, said that fixed mortgage rates should eventually decline to around 9.75%, which is "somewhat lower than the average now offered." He said the rates have already declined to around 10% from 12.5% a year ago.
Several mortgage bankers and economists, including Gramley, said Friday that they believe mortgage rates are almost as low as they will go, although, Gramley noted, "We've been wrong before."
Pegged to Bond Yields
Mortgage rates, he said, usually are 1 to 1.5 percentage points above the 30-year U.S. Treasury bond yield. On Friday, the yield was 8.15%, but few economists expect it to drop below 8%.
"It's hard to believe that they (mortgage rates) could go below 9%," said Zen Beckstead, executive vice president of the California Mortgage Bankers Assn. in Sacramento. "The economics of life won't let them go much lower."
Normally, refinancings make up just 20% of mortgage loan applications, but the drop in rates has resulted in a surge of mortgage refinancings. Nationwide, Gramley said, refinancings now constitute between 25% and 50% of mortgage loan applications.
At some institutions, the percentage is even higher. "Fifty to sixty percent of our mortgages are refinancings," Robert Roman, president of Beverly Hills Security Mortgage Co., said Friday.
The drop in fixed mortgage rates to around 10% from 12.5% a year ago means 200,000 more Californians can afford homes costing $120,000, Richard J. Rosenthal, president of the California Assn. of Realtors, said.
Home Buyers 'Trading Up'
He added that the growth in sales of larger homes is outpacing that of smaller homes, indicating that many home buyers are "trading up" from modestly priced starter homes. "We're seeing an increase in discretionary buying," he said.
The increased demand for homes brought on by lower mortgage rates is expected to boost home construction also.
Gramley estimated that there will be 1.9 million new homes built in the United States this year, the greatest number since 1978. In California, housing demand is causing the price of homes to increase at an annual rate of more than than 3%, meaning that just as homes are becoming easier to finance, they are becoming more expensive.
Lynn Reaser, an economist with First Interstate in Los Angeles, said consumer demand and possibly stronger economic growth fostered by the decline in interest rates may push rates back up a bit by mid-year. But, "if the economy remains weak for the next few months, I think we'll see a reduction in various interest rates," she said.